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The Difference a Year Makes

Appeared in Sibos Daily News, September 14, 2009

Monday, September 14, 2009

No prizes for guessing the main topic of debate at this year’s Sibos – the financial crisis and its ramifications will loom large over most discussions. But it has to be remembered that the credit crunch and economic slowdown were well under way last year as delegates gathered in Vienna. ‘Blue sky thinking’ was off the agenda, with financial institutions more focused on short-term solutions.

One year on and the skies are still a steely grey in the financial world. But the Hong Kong venue for Sibos is perhaps a stroke of luck – China’s economy is still growing (albeit at a slower rate than during the global boom times) and Asia has largely avoided the more dramatic downturn seen elsewhere in the world. So while the mood is still likely to be quite downbeat, the dynamic nature of the Sibos host city may go some way to alleviating the more gloomy of Sibos delegates.

Today’s welcome address is to be delivered by Joseph Yam, chief executive of the Hong Kong Monetary Authority. Speaking at a reception in Hong Kong in July, Yam said the current financial crisis served as a reminder that some aspects of market development may be taken too far, where, for example, they privilege the process of intermediation and neglect the financial and economic realities that lie behind it. “The caution inculcated by the Asian financial crisis [of 1997-98], and a natural conservatism in many markets in this region, seem to have helped us avoid the worst excesses we have seen in more developed markets,” he said.

John Ball, head of cash management, financial institutions, Asia-Pacific at Deutsche Bank, says a big question will be whether Asia as a region will come out of the financial downturn faster than everyone else. “Given the venue of Sibos this year, China will be a big discussion point and there will be a much larger representation from Chinese financial institutions at this year’s event. Every institution we deal with in China is connected to Swift and is very Swift savvy. Chinese financial institutions have been fast to embrace technology and improve STP rates,” he says.

The special Asia focus stream of Sibos this year will touch on many subjects including India’s economic development; China and how to steer its regulatory environment; the role Asia plays in the global economy; expansion in central Asia; integration of the financial markets in the countries of the Association of South East Asian Nations; and the international settlement of Chinese yuan.

This afternoon’s debate will examine a variety of aspects of the financial crisis and should set the scene for the week. Among the issues to be raised are the regulatory environment, rebuilding trust, the role of transaction banking, protectionism and risk.

Ignace Combes, deputy chief executive at international central securities depository Euroclear, says a common topic at Sibos this year will be the financial crisis and its ramifications on the industry, not only in terms of what structural changes it will bring, but also how the regulatory framework might change in order to avoid a recurrence of the past year’s events.

“Market infrastructures such as Euroclear and Swift in general performed very well during the crisis. They have always focused on ways to manage operational risks, ensure business continuity and secure adequate volume capacity. These efforts paid off in spades last year,” he says.

Alberto Pravettoni, managing director, group corporate strategy at LCH.Clearnet also believes market infrastructures have an important role to play. “Over the past year we have seen extremely turbulent times and the market infrastructure has, once again, proved its resilience. Across the board, there has been a flight to quality and a focus on product risk management and robust systems.” The importance of market infrastructure has become even more apparent and regulators, as well as market participants, are looking to it to provide a secure framework on which the financial markets of the future can flourish, he adds.

Risk is unsurprisingly a focus this year – counterparty, credit, market, liquidity, systemic and operational risk will all be discussed during the week. The main session, tomorrow afternoon, entitled Risk, will we ever learn?, will look at whether financial institutions have lost sight of the basics of risk.

David Hamilton, president of SunGard’s Ambit (which provides universal banking solutions) says: “The global financial crisis has again brought risk and performance management to the forefront of many bankers’ minds. As the impact of the crisis continues to be felt, commentary around how strategic risk management can help banks prevent future large-scale losses is prevalent. Banks that emerge from this crisis stronger will be those that take responsibility for their own risk analysis and ensure that risk management becomes a core function of their banking operations.” SunGard has embarked on a global study that investigates the risk management initiatives banks are implementing as a result of the sub-prime crisis. Findings will be announced at Sibos.

Combes says risk containment and cost containment are the key focus for Euroclear at the moment. “We are looking at how liquidity and collateralisation can be improved, and by doing that we hope to help restore confidence in the market, particularly between financial institutions,” he says. “Sibos is one of the very few occasions where there is open debate on different issues that involves a variety of stakeholders. It is a good place to have dialogue about redefining global standards and reducing costs and risk.”

Concerns about counterparty risk have raised the profile of central counterparties (CCP) in the financial markets. On Monday afternoon, panellists will discuss whether CCPs can ‘save the world’. It might be a tongue in cheek title for the discussion, but regulators have leapt upon CCPs as the key to eliminating counterparty risk. Panellists, who include Rob Close, president CLS bank and chief executive CLS Group, LCH.Clearnet’s Pravettoni and Simon Haggerty, managing director, operations at UBS, will discuss whether there is room for both the OTC and CCP models to co-exist.

Close says the introduction of CCPs for the CDS market will be a fundamental change and there’s a question as to what impact it will have on the cost of doing business and on competition. “Will people be willing to do business for the cost of the risk mitigation it will provide? We hear initial volumes are low,” he says.

The historic FX market view was that a CCP model was not required because banks had always set presettlement exposure at relatively low values, he says. Settlement risk was covered by CLS. However, because the market has changed since the collapse of Lehman Brothers, is there a need for a CCP in FX? “The debate is whether the FX market or part of it should follow changes in other markets and then to determine if a one size fits all approach is appropriate. If the FX market decides it needs a CCP to cover pre-settlement risk, CLS would expect to be at the heart of the solution.”

Pravettoni points up that while much of the focus is on the clearing of OTC products, some of these have been successfully cleared for a long time, while some others are still traded and settled bilaterally. “The interest rate swap market, which is some ten times the size of the CDS market, has successfully withstood both extreme market conditions and the default of one of its largest players. The challenge for all at this time is to ensure that the framework constructed in the aftermath of a crisis is not so rigid as to stifle the innovation which underpins the success of both financial markets and the broader economy.”

Out on the exhibition floor, the Sibos vendor community will be hoping that they are still relevant, despite the downturn. SunGard’s Hamilton believes that the financial crisis is now a part of daily life and as a result, the banking industry is faced with a new set of priorities. “For many the focus is on customer retention, improving operational efficiency and risk management,” he says. At the same time, competition remains fierce. “A customer-centric approach is key, which often means rationalising a plethora of systems. Successful banks will be those that understand their customer relationships, who is profitable and who is not and be able to empower branch staff so they can offer the right products via the right channels.”

Martin Wilson, chief commercial officer at payments processor VocaLink, cites a recent McKinsey report, which found that payment revenues comprise 24 per cent of overall revenues for banks but yield only 9 per cent of their profits. “As the industry comes together for a Sibos set against the backdrop of the credit crunch, banks realise they cannot afford to continue with such inefficiencies. If they are to reduce costs and improve revenues they need to review all areas of their business and make them as efficient and as profitable as possible,” he says.

“Banks typically have a multitude of legacy IT systems that handle all types of payments and which incur high costs for ongoing maintenance. Current market conditions dictate that banks not only need to do new things, but find ways of doing existing things differently and more cost efficiently.”

Wilson predicts that at this year’s Sibos, banks will be exploring how they can rationalise their IT systems and processes through considering solutions such as outsourcing, allowing them to focus on their customers’ needs.

Louis Blatt, chief product officer at ACI Worldwide, identifies liquidity management as one of the most pressing challenges for this year’s Sibos delegates. It is an issue for financial institutions themselves, as well as for the banks in helping their corporate customers to manage their liquidity. In addition to this, banks also need to generate revenue from transaction banking.

“Underpinning both of these will be the challenge of how to use technology to make them happen – how to move towards the hubs that many analysts agree are the future of bank technology, and whether service oriented architecture is the ‘silver bullet’ that so many vendors are promising,” he says.

The events during the week of Sibos 2008 are still being played out and it would be a brave Sibos delegate who would predict the future. Euroclear’s Combes says everyone needs to realise that there are still serious problems at different levels – the crisis was not due to one particular issue. “There are many things that can be improved and financial institutions need to take a wide variety of measures to restore their credibility. And importantly, they need to make their voices heard in the structural changes that will take place. Sibos is a good place for institutions to discuss these points and help frame the changes that are needed objectively.”